Articles Posted inReal Estate Syndicates

With regard to how they can invest their money, California real estate investors have many, many options. They can invest directly in a project, becoming a co-owner or creditor. An investor who joins a project as an owner or partner might take an active role in the project. Investors who prefer a more passive role can invest in a formal business structure like a real estate investment trust (REIT), which is similar to buying shares in a corporation, or a real estate syndicate. (You can read about the differences between a REIT and a real estate syndicate here).

Investors in a real estate syndicate pool their money for a particular project, which might involve improvements to an existing property or an entirely new development. The person or business that initiates the project is known as the syndicator. While the investors take a passive role, the syndicator manages the project, usually in exchange for a fee and a percentage of the profits. The investors place a considerable amount of trust in the syndicator, so it is worth reviewing the duties that a syndicator owes to them.

What Is a Real Estate Syndicate?

A real estate syndicate is a way to finance a project or development through private investors. While REITs typically invest in numerous real estate projects and ventures, a real estate syndicate usually exists to invest in a single project. The same group of investors may go on to invest in more projects together, but they would do so as a new syndicate.

Real estate syndicates in California are often established as limited partnerships (LPs), with the investors as limited partners and the syndicator as general partner. Under this type of business structure, the investors are shielded from liability, but cannot have a direct role in the real estate project. Other syndicates may form as limited liability companies (LLCs), in which the investors own the majority of the business, but leave management and operation to the syndicator.Continue reading

Real estate investments have generated income for investors for about as long as the concept of private ownership of real property has existed. The fundamental concepts of real estate investment have not changed much over the centuries, but relatively recent innovations allow investors to entrust their money to professionals, freeing them from direct responsibility for managing investment properties. Real estate syndication allows investors to contribute capital to a development project under the management of a syndicator. Real estate investment trusts (REITs) own and manage portfolios of real estate holdings. Syndicates and REITs differ from each other in several important ways. Potential investors should understand these differences before deciding where to put their money.

Syndicates versus REITs

The most fundamental difference between syndicates and REITs involves their relative size and scope. REITs are, essentially by definition, larger than syndicates. They have more investors, and they generally manage portfolios aimed at longer-term holdings. Guidelines for the structure and management of REITs are found in the federal Internal Revenue Code (IRC).

Syndicates tend to be less formal than REITS, with fewer specific legal guidelines or restrictions. They are usually limited to a small number of development projects and therefore tend to focus on holdings and revenues on a shorter time scale than REITs. You can read our many articles about real estate syndication here.

The internet and social media have changed the way people communicate in a vast number of ways. They also offer numerous opportunities—and hazards—for investors. Securities laws and regulations have struggled to keep up with new technologies. A process known as “crowdfunding,” by which individuals and businesses solicit small donations from the general public for specific projects or causes, has become increasingly popular in the past few years. A bill enacted by the U.S. Congress in 2012 allows crowdfunding for investment purposes, subject to various rules. Real estate investors may also now invest in ventures, including real estate syndicates, through crowdfunding platforms.

What Is Crowdfunding?

A typical “crowdfunding” campaign seeks to raise money for a specific project through small contributions. Platforms offered by companies like Kickstarter and GoFundMe allow individuals to contribute via a website or a mobile app. Kickstarter is generally known for creative projects like films, while GoFundMe is known for more charitable causes, like raising money to help pay medical bills.

Contributions to crowdfunding campaigns on this type of platform are not “investments,” since the contributor does not receive equity in the project. Contributors to a Kickstarter project may receive a reward defined in the campaign. For example, people who contribute $20 might get a t-shirt, and people who contribute $50 might get a t-shirt and a poster. Investing through a crowdfunding platform requires compliance with securities laws.

California real estate investors have many options when deciding where to put their money. This includes a real estate syndicate, in which investors contribute money to a real estate project under the management of a syndicator or sponsor. Since a real estate syndicate investment often involves buying ownership equity in a business entity, such as a limited partnership or limited liability company, state and federal securities laws may be a factor. In order to avoid inadvertent securities law violations, syndicators and investors alike should be aware of the general requirements and exemptions in laws like the federal Securities Act of 1933.

Securities Law Enforcement

Both federal and state laws define “securities” very broadly. In addition to stocks and bonds, the term also includes a variety of “investment contracts.” An investor in a real estate syndicate often entrusts their money to a syndicator, who will handle the actual operations of the syndicate. This type of investment is likely, in many cases, to be an “investment contract” within the meaning of state and federal laws.

At the state level, the California Department of Corporations (DOC) is responsible for enforcing securities laws. The Securities and Exchange Commission (SEC) handles federal securities enforcement. Anyone seeking to sell a security, possibly including an interest in a real estate syndicate, to the public must register with securities regulators. This can be a time-consuming and expensive process, as demonstrated by the overall rarity of companies “going public” by making an initial public offering (IPO) of stock to the public. State and federal laws provide exemptions to these rules, however.

The individual investors own a portion of the syndicate. This raises an important question about state and federal securities laws: do investments in a real estate syndicate constitute “securities,” which might place them under the jurisdiction of state and federal securities regulators?

The rather complicated answer is that it depends on various factors, including how the syndicate was formed and the role of the investors in its ongoing operations. Determining the answer requires a careful and thorough review.

What is a “security?”

At the federal level, the Securities Act of 1933 regulates the offer, issuance, and sale of securities to the public. It defines “security” to include not only stocks, bonds, futures, and options, but also a wide range of “investment contracts” and other financial transactions.

In an unpublished 2015 case in a California state appellate court called Stark v. Beaton, a defendant appealed after the court denied his petition to vacate an arbitration award associated with a real estate syndication project. The case arose when the parties submitted the defendants’ claims to expedited arbitration under the FINRA rules.

Real estate syndication allows you to put your private savings into real estate investments when other financing isn’t available for them. The syndicator’s responsibilities and obligations to an investment group and the investors’ responsibilities to each other are determined by how the syndication is organized.

Choosing the form of organization requires the syndicator to look at the advantages and disadvantages of each. Many people prefer a limited partnership. When there is a corporate form, you can have central management, but most syndicates do not use this form because of negative tax consequences. General partnerships allow you to avoid double taxation but incur unlimited liability, and in addition, there is no central management. A limited partnership allows you to have centralized management but also keep certain tax advantages.

Some syndicates are organized as limited liability companies. This form allows members to actively participate in managing the syndicate and provides for limited liability with specific exceptions. It can incur taxes like a partnership, while avoiding certain double taxation problems that happen when the form of the syndicate is a corporation. But an LLC cannot hold a real estate license in California.